Tuesday, February 10, 2009

Strategic Financing Models of the Biotechnology Companies

“Life science startups are the only companies that are forced to define their corporate strategy as a function of their financing rather than to gather financing in accordance to a previously well-defined corporate strategy.” -Steven G. Burrill, Annual Report on the Life Science Industry

Besides having the essential elements like innovative science, solid management team, strong intellectual property and ingenious marketing strategies, the success of any biotechnology company largely depends on how the strategic financial models are structured into the business plan. After all, questions pop-up like, who are these financing sources; how much do they give; how much do they take; when and how to approach them; and the current trends in financing biotechnology firms. A thorough knowledge of all financing opportunities is critical to succeed in the biotechnology business.

This write-up is also to encourage readers to add examples in each category of the financing partners for the biotechnology industry, without which it’s incomplete to conclude. Comments or suggestions to virenkonde at gmail dot com. Thanks!

1. Venture Philanthropists are a network of wealthy individuals or not-for-profit foundations which provide non-dilutive initial capital along with mentorship, disease knowledge, patient access and an understanding of the end market that few traditional VCs can offer. Government provides small amount of non-dilutive grants, while research is still in the laboratory. Technology Transfer Offices are part of the academic institutes which provides small amount of non-dilutive seed capital along with help in the IP processes such as out-licensing deals of technology or a lead molecule. Although, these funding sources are available at an early stage of drug development, they are not always efficient.

Do you know of any wealthy individuals, non-profit foundations, government grants or licensing deals out of the university spin-offs that have contributed to the growth of life sciences-based industries?

2. Angel Investors are wealthy individuals or groups usually from industry itself interested in high returns on investments. They provide small to medium capital with mentorship, creditability, and network of contacts. However, they are assembled into a closed circle and sometimes hard to reach. A typical Angel Investor will demand a larger share of the company as they are interested in the company’s management activities. However, you might actually benefit from their experience and advice. Most angel investors are in for a single round of investments and they aren't repetitive investors.

Do you know of any angel investors or their associations that have contributed to the growth of life sciences-based industries?

3. Venture Capitalists are investors with mostly industry background which also demand a fair amount of control over your operations and decision-making. However, they also rally around the business, helping with management, promoting it and providing contacts, and to protect their investment. Most VCs usually commit for two or more rounds but may expect a greater return on investments as a result. They provide management expertise and creditability; however they only finance 1:100 opportunities and seek early exit. The success of both the angel and VC investor is their ability to gain liquidity via a timely exit either through an IPO or the company being sold.

Stages of Venture Capital Financing

Early Stage or Seed Funding usually knocks on the door when the company holds innovative project combined with a compelling business plan (and maybe an angel on board). Clinical discovery stage with strong IP is certainly a good start.

Start-up or Round I Funding comes with demonstrated efficiency by the business-driven strong management team which has contributed towards significant progress since the inception of the company. This stage is indicated by the path from discovery to lead optimization or rise of the first molecules from a technology platform.

Expansion or Round II Funding is for the demonstrated significant milestone achievements that are close to generating revenues (out-licensing, partnering, etc.). For example where new drug IND is filed and ready to go to clinical trials or it is already in Phase I clinical trials.

Mezzanine or Round III Funding is similarly for the demonstrated excellent milestone achievements with completed some strategic alliances with a clear exit strategy. For example a couple of pre-IND, IND and Phase I/II compounds and company is close to acquisition or IPO.

Bridge Loans provide some cash before an IPO (in advance of about 6-12 months).

Do you know of any VC investors or their associations that have contributed to the growth of life sciences-based industries?

4. Although equity is the main source of sustenance for biotechnology companies, Venture Debt Financing is a layer of capital that is becoming increasingly important. Securing loans early on can ease financial worries down the road for biotechnology startups. For example, equipment financing is the practice of using a firm's equipment as collateral to receive cash. Biotechnology companies can benefit greatly by using their equipment to secure debt financing. It gives them an extended cash runway and more time to negotiate their next equity round. Cash is king at every stage of growth for a life science company, and it is the fuel that drives the development of products in the pipeline.

Venture Leasing provides financing in return for equipment lease payments, whereas Venture Lending is an alternative to traditional lending from financing institutions. The main purpose is to enhance existing funding round with no equity dilution, it acts a bridge between financial rounds which contribute towards financial “buffer” and credibility. Thus, venture debt financing can extend cash runaway without eating-up equity.

Venture debt is available at every stage of the company’s growth. Venture leasing is available for start-ups that are VC-backed and needs money to buy large assets. Lease payments are made on the fixed assets as collateral. Venture lending is a available for large companies that are close to raising capital, with strong management team and support of the investors with variable and fixed asset (IP, receivables, etc.) as collateral.

5. Investors offering cash in exchange for the license royalty payments are categorized under Royalty Financing. These investors also fund future research, product development, product acquisitions, and product launch costs which minimizes dilution. The transactions can also be customized by delaying out-licensing deals and diversifying the risk.

6. Funding a Public Company comprises of Initial Public Offering (IPO), Private Investments in Public Equities (PIPE) and Follow-On Public Offering (FOPO) entities.

Initial Public Offering (IPO) is a regulated process by which a public company issues public shares for the first time in the market. This helps provide capital or an alternative to acquisition or reimbursement of venture debt for the company. Major shareholders control the company, however it is very sensitive to market conditions as stock prices are very milestone sensitive and affected by n number of factors. It is a combination of factors that makes a stronger and successful IPO in the biotechnology industry. The factors that indicate the strength of an IPO are Market timings, Company credentials, Management team and its track record, Prior investors and amount of investment prior to IPO, Quality of underwriters, Stage of product development (outstanding phase III data, good phase II results and persistent phase I compounds), and Deals with Major pharma companies (a licensing deal is good and a licensing deal with an equity investment is still better).

Do you know of any company in the biotechnology industry that has gone public recently?

Private Investments in Public Equities (PIPE) are a small group of investors buying common shares of a public company at a discounted price. This provides capital although it is not a lengthy process like IPO or FOPO as it can be done quickly by Investment Banks and it is not very market sensitive. However a large amount of securities are being offered to a limited number of investors that might want to play an active role in the company.

Follow-On Public Offering (FOPO) is an offering of shares to the public after the company has already gone through an IPO. This provides capital, however it can be interpreted as a “red flag” indicating that the company is strapped for cash.

7. Strategic Alliances such as Mergers & Acquisitions (M&A), Licensing Agreements, Partnerships or Collaborations etc. are the variation of different deals in order to in-license or out-license, co-develop or co-market products. This provides capital, products, access to expertise (contract research and manufacturing services, sales, and marketing, etc.) however it requires planning, vision and a detailed strategic approach.

Do you know of any strategic alliances that have occurred in the life sciences sector recently?

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